A semi-strong form evaluation of the efficiency of the wheat futures market.
Jones, Llewelyn Edward
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Futures market efficiency is of concern to both market participants and non-participants. The practical problem is that inefficient futures markets can lead to resource allocation problems. The specific objective of this study is to perform a Fama (1970) semi-strong efficiency test on the Chicago Board of Trade's wheat futures market. In this study, three wheat price prediction models are used as a standard with which to compare, on the basis of root mean squared error and bias, the futures market. One of the models, an autoregressive integrated moving average model, succeeded in obtaining a semi-strong efficiency rejection. Returns from speculating with the autoregressive integrated moving average model are then examined to see if the incremental returns are sufficiently large to cover all costs of speculating. A 19.5 percent after cost return was generated by simulating speculation with this model. Since a risk premium is expected when using unproven methods to forecast price, it was not determined whether this return is large enough to compensate for the risks involved. The results of this study indicate that there exists a possibility that the Chicago Board of Trade's wheat futures market is not allocating resources efficiently, at least for the time frame examined and efficiency definition chosen. As to whether this detected inefficiency is just an anomaly caused by the time frame examined, efficiency definition chosen, or the examination method, little can be said. The results of this test are only strictly interpreted relative to the particular definition of efficiency and time period chosen, and are not used to infer that the futures market can be replaced by a "more efficient" marketing tool.